Why a flexible asset allocation approach beats static exposure over the next 3 years: ICICI Pru AMC’s Ihab Dalwai

With Indian markets trading near elevated long-term averages, relying on a single, static asset class carries higher risk. According to Ihab Dalwai, Senior Fund Manager at ICICI Prudential AMC, high return dispersion means the real opportunity over the next three years lies in a flexible asset allocation framework that actively shifts capital between equities, debt, and commodities to deliver better risk-adjusted outcomes.

Edited excerpts from a chat with the fund manager:

How different is Active Asset Allocator Long-Short strategy from your existing Balanced Advantage Fund or Multi-Asset Fund, which you already co-manage?

Unlike the traditional mutual fund offerings such as Balanced Advantage Funds (BAF) or Multi-Asset Funds, the Active Asset Allocator Long-Short strategy is structurally different as it operates within the Specialized Investment Fund (SIF) framework, which provides decent higher portfolio flexibility.

While BAFs and Multi-Asset Funds primarily manage net exposure through hedging and dynamic allocation, the SIF structure allows us to deploy a wider range of derivative-based strategies. This enables the portfolio to potentially generate returns not only from directional market participation but also from relative opportunities across asset classes and market conditions.

Another key difference is the breadth of the opportunity set. The strategy dynamically allocates across equities, debt, commodities, InvITs and derivatives, with the flexibility to actively recalibrate exposures depending on valuations, macros and risk-adjusted opportunities. The objective is to create a more adaptive portfolio that seeks smoother outcomes across cycles while maintaining a disciplined buy low, sell high philosophy.

At a time when Indian markets are trading near elevated long-term averages, how are you reading the current risk-reward equation across equities, debt and commodities? Which asset class currently looks most attractive from a three-year perspective?

From a three-year perspective, we believe investors should avoid thinking in terms of a single winning asset class. The current environment is more suited for dynamic asset allocation because return dispersion across asset classes could remain high.

Equity valuations have corrected in pockets where expectations are low and such opportunities have increased over the last 1-2 years. At the same time, fixed income has become relatively more attractive after the sharp repricing in global rates. Commodities, especially precious metals, performed well over the last year due to dollar devaluation, however that trend has currently paused because of rising rates in the US.

In our view, the opportunity today lies in actively shifting between these asset classes rather than remaining concentrated in one asset class. Over the next three years, a flexible allocation approach may potentially deliver better risk-adjusted outcomes than static exposure.

Your framework talks about “being invested the right way at the right time.” What are the biggest macro variables driving your current asset allocation stance?

Our framework for equities combines a valuation plus earnings overlays. In case of debt and commodities, our allocation is based on various macro indicators. The key macro variables we monitor include growth trends, inflation trajectory, liquidity conditions, real interest rates, currency movements and earnings cycles. At a broader level, we try to identify the prevailing growth-inflation regime because different asset classes tend to perform differently across economic phases. For example, equities and cyclical commodities generally perform better during growth-led expansions, while gold and duration assets tend to outperform during slowdown or uncertainty-driven phases.

Commodities are emerging as a bigger allocation theme globally. Do you believe Indian investors remain structurally underallocated to commodities if we exclude household gold?

Commodities has to be seen from a tactical allocation perspective rather than a structural allocation as they don’t pay either dividend or interest as other asset classes do. Hence, give the sharp run up in commodity prices, we don’t see an issue with relatively lesser allocation to commodities today.

How do you see gold behaving if global growth weakens but inflation remains sticky?

It is a tricky situation because the outlook on real rates is not clear. Historically gold as an asset class tends to do well when US real rates come off.

What role do InvITs play in the portfolio construction process, especially in a rising interest rate environment?

InvITs can play an important diversification role within the portfolio because they provide exposure to infrastructure-linked cash flow assets that are relatively distinct from traditional equity and debt instruments.

In a rising rate environment, there can be near-term valuation pressure on yield-oriented assets, including InvITs. However, the impact also depends on the strength and growth visibility of the underlying assets and cash flows. Therefore, selective allocation becomes important rather than taking a broad-based view.

Do you think that midcaps are now in a sweet spot and, barring a few pockets, unimpacted by the geopolitical conflict? In your Large and Midcap Fund, how overweight are you on midcaps?

Midcaps continue to offer selective opportunities, particularly in businesses benefiting from domestic economic formalisation, manufacturing expansion, financialisation and government-led capex. However, after the strong rally seen over the last few years, valuations in certain parts of the midcap universe continue to remain elevated. Therefore, midcaps are not a homogeneous segment. Stock selection and valuation discipline become increasingly important in the current environment.

Within the midcap universe, which sectors do you like from a 3-5 year perspective and why?

The approach to midcaps has to be bottom up. Having said that, there are opportunities in certain platform companies and consumer facing businesses which have meaningfully underperformed over the last three years and have muted expectations from the market which makes them a good investment case today.